Heads or tails, or a heady tale? Do three million people face a coin toss chance of losing their pension?

The Pensions and Lifetime Savings Association (PLSA)’s Defined Benefit Task Force says that employers should be permitted to walk away from their pension obligations without having to pay the full buyout costs where trustees believe it would be in members’ interests to give up the employer covenant in exchange for an upfront cash injection. Benefits in these schemes would then be standardised and the assets and liabilities pooled in new “superfunds”.

Before contemplating desperate measures, policymakers would need to be convinced that we live in desperate times. The PLSA emphasises that, in many schemes, the risk of members getting less than 100p in the pound is high. Putting a number on it makes the story stronger, and it was widely reported that “three million savers in defined benefit pension schemes only have a 50/50 chance of receiving the payouts they were promised” (these words are from the BBC website). This headline might have looked less scary if it had quoted the PLSA report and referred to members’ prospects “of seeing their benefits paid in full”: a large chance of losing something does not equal a large chance of losing everything.

Where does this killer fact come from?

The PLSA’s report states that there are three million members in schemes assigned the Covenant Group 3 (CG3, “tending to weak”) or Covenant Group 4 (CG4, “weak”) grading by the Pensions Regulator. We haven’t found this figure in any of the Regulator’s publications, but the PLSA’s figure looks in the right ballpark.

Modelling that the Taskforce commissioned from Gazelle Corporate Finance last year concluded: “Members supported by CG3 and CG4 sponsors essentially have approximately a 50:50 chance or less of reaching a safe outcome [defined as fully funding on a solvency basis] within 30 years.”

A “50:50 chance or less” is worse than the widely reported “50:50 chance”. (The actual modelling quotes a 52% chance of reaching solvency for the average scheme sponsored by a CG3 employer, with a further 8% chance of being neither fully solvent nor failed after 30 years – though the solvency figure for CG4 schemes is a mere 32%.) On the other hand, many members’ chances of avoiding a benefit haircut will be better than their scheme’s chance of staying the course: where schemes do fail, some of their current members will have died in the meantime, having received full benefits throughout their retirement. For example, Gazelle told the PLSA that CG3 schemes have a 37% change of sponsor default within 30 years, but less than half this within 10 years.

The PLSA commissioned an independent review of Gazelle’s model. The reviewer, Louise Pryor FIA, advised that “by extrapolating from the illustrative case studies to the scheme landscape”, the model could “arrive at a very approximate estimate of the overall risk” but “would caution against relying on the absolute value of any results”. “Like all models”, she noted, “… the results it produces are highly dependent on the assumptions that have been made”.

The Pensions Regulator’s prognosis appears rosier than the PLSA’s headline – perhaps due to some mixture of different (not necessarily better) modelling assumptions and assessing default at the member level. The Regulator’s Fiona Frobisher told a recent Society of Pension Professionals conference that CG4 members mostly receive their full benefits in more than 50% of modelled scenarios. That figure should be higher for CG3 schemes, in which case the three million members’ average chance of receiving their full benefits would be greater than their chance of winning a coin toss.